Unofficial capital of China’s private economy needs reforms

WangGang

Wenzhou is the home of the private economy. With 99.5% of companies falling into the category of small and micro enterprises, one in three people in Wenzhou is a businessman.

Corresponding to the development of the private economy in Wenzhou, the private financing industry there also got an early start with the establishment of 51 urban credit cooperatives, 73 rural financial service centers and 236 rural cooperative foundations before the turn of the millennium. Without the private financial industry, there would be no market economy in Wenzhou and no Wenzhounese entrepreneurs.

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At present, there are more than 600,000 Wenzhounese living and doing business in 131 countries worldwide and 1.75 million Wenzhounese entrepreneurs have spread throughout China, setting up 204 Wenzhou chambers of commerce in cities at the prefectural level and above.

With the expansion of the Wenzhounese network covering China and connecting the world, private finance in Wenzhou has become more and more dynamic and increasingly institutional and standardized. In Wenzhou, private capital exceeds 600 billion yuan ($95.4 billion) and grows by 14% each year. With more than 120 billion yuan used for private lending, Wenzhou has become an important national hub for private capital.

At a State Council executive meeting chaired by Premier Wen Jiabao on March 28, the government announced the creation of a financial reform “pilot zone” in Wenzhou, which will allow private lenders to operate loan companies targeting small- and medium-size enterprises. Long considered a regulatory gray area, the measure has already been lauded as a key reform in brining greater transparency to the industry.

As a relatively market-oriented and developed area, Wenzhou is more sensitive in its reaction to changes to the macroeconomic and financial situation. Thus, the problems we encountered are somewhat prophetic. The local economic and financial turmoil in Wenzhou in August and September 2011 was partly due to Wenzhou’s own problems. But they also reflected the inadequacy of the Chinese market economy and the imperfection of the local capital market.

Wenzhou is the home of the private economy. With 99.5% of companies falling into the category of small and micro enterprises, one in three people in Wenzhou is a businessman... As a relatively market-oriented and developed area, Wenzhou is more sensitive in its reaction to changes to the macroeconomic and financial situation.
-- Wang Gang

Here are some major problems I have observed:

Rates of return in the real economy falling steadily. For Wenzhou’s secondary industry, capital growth rate has been falling from 38% in 1980 to 21% in 2010. From a survey of 2008 to 2011, profits in part of the manufacturing sector fell from about 10% to 5% or even 2% to 3%. Some companies could only break even.

Company owners are struggling, bringing in revenue of several hundred million yuan but profit of only several million, less than speculating on a few homes brought at the height of the real estate industry. The dire reality, coupled with the profit-driven nature of capital, is bound to make the real economy bleed on a large scale, with money flowing toward the real estate industry and others with higher returns. Thus, if the rate of return of the real economy is not fundamentally improved, it is difficult to get to the root of the real estate bubbles and some grey areas of the private capital market are difficult to eliminate.

Capital flowing out. Wenzhou is the source of capital for more than 1.7 million Wenzhounese businessmen in China. It is estimated that 30% to 40% of Wenzhou capital flows toward Wenzhounese businessmen around China. With macroeconomic controls gradually taking effect over the past few years, the prices of real estate, bulk energy and raw materials have begun to stagnate and even fall. Rates of return on capital have gradually fallen, and the capital investments of some Wenzhounese businessmen were locked up, exacerbating the tense local capital supply in Wenzhou.

Monetary contraction. Wenzhounese attach great importance to personal credit. Private capital acts as a bridge between banks and companies. When a bank loan comes due, a company generally repays the loan from private financing and then obtains a new loan. Thanks to these bridges, the rate of non-performing loans at all banks in Wenzhou as of the end of August 2011 was only 0.37% the lowest in the nation.

But with continuous monetary policy tightening since the second half of 2011, after getting private bridge financing to repay bank loans, some companies have had a difficult time getting new loans from the banks, cutting off their liquidity chains. Originally, companies could bear monthly interest rates of 2% to 5% for bridge loans for about a week. But if locked up, annual interest rates reach 30% or higher. Failing to repay the bridge loans, companies in effect froze up the liquidity of private capital.

In a nutshell, the financial problems troubling Wenzhou are mainly inadequate investment channels for high amounts of private capital, and numerous small and micro companies but difficult financing. To break the current impasse, we need creative thinking to allow private finance to play a greater role in supporting the development of the real economy.

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